MERCURY SYSTEMS CORPORATION v. COMMISSIONER OF INTERNAL REVENUE

Republic of the Philippines COURT OF TAX APPEALS Quezon City SPECIAL SECOND DIVISION MERCURY SYSTEMS CTA Case No. 8131 CORPORATION, For: Cancellation of Deficiency Income Tax, Deficiency Value- Petitioner, Added Tax, and Deficiency Expanded Withholding Tax -versus- Members: COMMISSIONER OF CASTANEDA, JR., Chairperson INTERNAL REVENUE, CASANOVA, and MINDARO- GRULLA, JJ . Respondent. Promulgated: MAY 16 2013 -7 , ----r-�lk-,-- X- - - - - - - - - - - - - - - - - - - - - - - - - - - - - - X \ 3:2-o DECI SI ON MINDARO - GRULLA, J..: This is a Petition for Review filed on July 14, 2010 by Mercury Systems Corporation seeking cancellation of the assessment issued against it for alleged deficiency income tax, deficiency va Iue-added tax (VAT), and deficiency expanded withholding tax, including penalties and interest, in the total amount of P427,506.85. Petitioner Mercury Systems Corporation is a domestic corporation duly organized and existing under and by virtue of the laws of the Republic of the Philippines and duly registered with the Securities and Exchange Commission (SEC) 1 . Respondent is the Commissioner of the Bureau of Internal Revenue (BIR), who is duly appointed and empowered to perform the duties of her office, including, among others, the power to decide, cancel, and abate tax< 1 Exhibit "A".

Mercury Systems Corporation vs . CIR Page 2 of 33 CTA Case No . 8131 DECISION liabilities pursuant to Section 204(B) of the National Internal Revenue Code (NIRC) of 1997, as amended by Republic Act (RA) No. 8424, otherwise known as the "Tax Reform Act" of 1997. She holds office at the BIR National Office Building, Agham Road, Diliman, Quezon City. On November 20, 2009, petitioner received from respondent, through the Officer-in-Charge (OIC)-Assistant Regional Director of Revenue Region No. 7, a Formal Letter of Demand with Assessment Notice No. F43-284 dated November 16, 20092, covering the taxable year 2006, which stated that petitioner has deficiency taxes in the total amount of P427,506.85, broken down as follows3 : ~ncy I_ncome Tax - 1 BASIC - l I TAX INTEREST SUB- l 17~014~47 TOTAL 90,73 6.49 260 750.96 Def1c1ency Value - added Tax [ 94,678.48 54,7]_1.94 _13 9,41~42 Deficieng Expa nd ed Withholding Tax . _ 849.�5 49 5.8- 2 1 345.47 16 000 .00 Com12romise PeQ_alty _ ~-- _ ~ ~~ -- 26_51542.60 145,964.25 427,506.85 On December 16, 2009, petitioner filed with respondent, through the OIC-Assistant Regional Director of Revenue Region No. 7, its protest letter4 pursuant to Section 228 of the NIRC of 1997, as amended. The protest letter specified the legal and factual bases of the protest and requested a reinvestigation or reconsideration of the findings and computations contained in the Assessment Notices. Petitioner likewise reserved the right under Section 228 of the NIRC of 1997, as amended, to submit additional supporting documents within sixty (60) days from December 16, 2009. 5 On February 8, 2010, petitioner received from respondent, through the OIC-Assistant Regional Director of Revenue Region No. 7, a letter in reply to petitioner's December 16, 2009 protest letter, informing petitioner that the case will be forwarded to the Revenue District Office No.-" 2 Exhibits " D". " E", "F", "G", "H", and "I". 3 Par . 3, Petition for Review (Petition), Docket, p. 5. 4 Exhibit "J". 5 Par. 4, Petition, Docket, pp. 5-6.

Mercury Systems Corporation vs. CIR Page 3 of 33 CTA Case No. 8131 DECISION 43A-Pasig City for appropriate action, and directing petitioner to address succeeding communications to the Revenue District Office No. 43A-Pasig City. 6 On June 14, 2010, the one hundred eighty (180)-day period from the filing of petitioner's protest, which was on December 16, 2009, had lapsed without petitioner receiving any decision from respondent; thus granting petitioner thirty (30) days or until July 14, 2010 to file a Petition for Review. On July 14, 2010, petitioner filed the instant Petition for Review before this Court. On September 6, 2010, respondent filed her Answer7 , with the following Special and Affirmative Defenses: "7. All presumptions are in favor of the correctness of the Assessment; 8. The Assessment for deficiency income tax, value - added tax, expanded withholding tax and compromise penalty for the calendar year December 31, 2006 was issued in compliance to the provisions of Section 228 of the National Internal Revenue code and in accordance to existing revenue rules and regulations relative to the right of the petitioner to be informed of the factual and legal bases upon which the assessment was made; 9. The Deficiency Income Tax was based on the following grounds: a. Failure of petitioner to subject income payments to withholding tax as required under Revenue Regulations No. 2-98 as amended, thus disallowed as deductions from gross income pursuant to Section 34(K) of the NIRC. b. The exist.e... nce of unrecorded sales, assessed pursuant to Section 31, in relation to Section 32 of the NIRC 6 Par. 3, Joint Stipulation of Facts and Simplification of Issues, Docket, p. 88. 7 Docket, pp. 62-65.

Mercury Systems Corporation vs . CIR Page 4 of 33 CTA Case No . 8131 DECISION c. The failure of the petitioner to support with appropriate documentary evidence claimed creditable withholding tax, hence, disallowed and assessed pursuant to Section 2.58.3 of Revenue Regulation No. 2-98. 10. The Deficiency Value-Added Tax assessment was assessed by reason of the existence of unrecorded sales subject to 12�/o VAT Pursuant to Section 106 and 108 of the NIRC and Pursuant to Republic Act 9337 in relation to Revenue Memorandum Circular No. 8-2006; 11. The Deficiency Expanded Withholding Tax was imposed by reason of income payments not subject to expanded withholding tax pursuant to Revenue Regulation No. 2-98. 12. The 20�/o interest per annum has been imposed pursuant to the provisions of Section 24( B) of the NIRC 13. The 23% surcharge has been imposed pursuant to the provisions of Section 248(A) of the NIRC;" On October 14, 2010, the case was set for pre-trial conference. 8 Respondent filed her Pre-Trial Brief on October 11, 2010; 9 while petitioner filed its Pre-Trial Brief on November 5, 2010. 10 On November 25, 2010, the parties filed with this Court their "Joint Stipulation of Facts and Simplification of Issues"; 11 which was later approved in a Resolution 12 dated November 26, 2010. In the same Resolution, the pre-trial conference was deemed terminated.t" 8 Notice of Pre -Trial Conference, Dock et , p. 66. 9 Docket, pp. 67 -70 10 Docket, pp. 78 -83. 11 Docket, pp. 87-90. 12 Resolution dated November 26, 2010, Docket, p . 92.

Mercury Systems Corporation vs. CIR Page 5 of 33 CTA Case No. 8131 DECISION Trial proceeded during which petitioner presented Susanita B. Laxamana as witness, as well as documentary evidence. On August 23, 2011, petitioner filed its Formal Offer of Evidence, offering Exhibits "A" to "000", inclusive of submarkings; which this Court admitted in a Resolution dated October 10, 2011. The documentary evidence formally offered and admitted are as follows: Exhibits Description A B SEC Certificate of Incorporation and Articles of Incorporation and By-Laws c Preliminary Assessment Notice dated October 15, D 2009 E F Letter of Protest dated November 9, 2009 to the G Preliminary Assessment Notice H I Formal Letter of Demand issued on November 16, J 2009 K N Assessment Notice for Deficiency Income Tax Assessment Notice for Deficiency Value-Added Tax Assessment Notice for Deficiency Expanded Withholding Tax Formal Letter of Demand for the Compromise Penalties Assessment Notice for Compromise Penalties Letter of Protest dated December 15, 2009 to Final Assessment Notice Letter to the BIR Revenue Region No. 7 dated August 17, 2010 Quarterly Value-Added Tax Return for the 1st taxable quarter of 2005 duly filed with the Bureau of Internal Revenue, Revenue District Office No. 43, Pasig City [BIR Form No . 2550Q)(

Mercury Systems Corporation vs. CIR Page 6 of 33 CTA Case No. 8131 DECISION 0 Quarterly Value-Added Tax Return for the 2nd taxable quarter of 2005 with attached Security P Bank BTR - BIR Deposit Slip in the amount of P30, 726.13 [BIR Form No. 2550Q] Q Quarterly Value-Added Tax Return for the 3rd R taxable quarter of 2005 duly filed with the Bureau of Internal Revenue, Revenue District Office No. S 43, Pasig City [BIR Form No. 2550Q] T Quarterly Value - Added Tax Return for the 4 th taxable quarter of 2005 with attached Security U Bank BTR-BIR Deposit Slip in the amount of P2,835.00 [BIR Form No. 2550Q] V W Quarterly Value - Added Tax Return for the 1st Z taxabl e quarter of 2006 with attached Security X Bank BTR - BIR Deposit Slip in the amount of Y P27,662.49 [BIR Fo r m No . 2550Q] BB BB-1 Quarterly Value-Added Tax Return for the 2nd taxable quarter of 2006 with attached Security Bank BTR- BIR Deposit Slip in the amount of P63,744.02 [BIR Form No. 2550Q] Quarterly Value-Added Tax Return for the 3rd taxable quarter of 2006 with attached Land Bank of the Philippines BTR- BIR Deposit Slip in the amount of P32,015 .64 [BIR form No . 2550Q] Quarterly Value-Added Tax Return for the 4 th taxable quarter of 2006 with attached Security Bank BTR- BIR Deposit Slip in the amount of P18,330 .70 [BIR Fo r m No . 2550Q] Invoice No . 0254 in th e amount of P17 ,640.00 Invoice No. 0255 in the amount of P100,184.00 Official Receipt No. 0308 in the amount of P117,740 .00 Invoice No . 0269 in the amount of .P588,000.00 Official Receipt No. 0305 in the amount of P577,500.00 Affidavit of Ms. Susanita Laxamana dated January 11, 2011 Signature of Ms. Susanita Laxaman ct(

Mercury Systems Corporation vs . CIR Page 7 of 33 CTA Case No . 8131 DEC i SION CC Service Report No. 1342 amounting (to) CC - 1 P-1,700 .00 EE Official Receipt No. 18704 amounting (to) P1,700.00 LL Petty Cash Voucher in the amount of P-1,000.00 ss Sales Invoice No. 4130 amounting (to) P270.00 DD Retail Invoice No. 36306 amounting (to) P-190 .00 FF GG Official Receipt No. 11596 amounting (to) HH P-2,290 .00 II Part Sales Invoice No. 0095653 amounting (to) JJ P-4,000.06 KK Official Receipt No. 77395 amounting (to) P540.00 NN 00 Official Receipt No . 77460 amounting (to) QQ P1,836.00 RR TT Retail Invoice No. 40918 amounting (to) P-600.00 XX Official Receipt No. 081040 amounting (to) P1,000.00 yy Cash Sales No. 151746 amounting (to) P-400.00 ZZ ZZ- 1 Sales Invoice No. 42962 amounting (to) P-1,800.00 Cash Invoice No. 417889 amounting (to) P-150.00 Cash Invoice No. 288866 amounting (to) P1,040.00 Cash Sales Invoice No. 122361 amounting (to) P-2,604.00 Cash Invoice No. 289316 amounting (to) P500.00 Sales Invoice No. 160082 amounting (to) P11,968.00 Sales Invoice No. 166341 amounting (to) P11,787.00 Affidavit of Ms. Susanita Laxamana dated March 22, 2011 Signature of Ms. Susanita Laxamana~

Mercury Systems Corporation vs. CIR Page 8 of 33 CTA Case No . 8131 DECISION AAA- 1 to Official Receipts and/or Invoices for the expenses AAA- 26 classified as meals and snacks amounting to AAA- 29 to P150, 128.13 AAA-49 BBB- 1 to BBB-5, BBB- 7 to BBB-10, BBB- 13 to BBB- 16, BBB- 18 toBBB- 20, BBB- 22 to BBB- 26, BBB - 29 to BBB - 34, BBB - 36 to BBB - 37, BBB- 39 to BBB-42, BBB-44 and BBB-45 CCC-1 to CCC - 10, CCC - 12 to CCC-20, CCC - 22, CCC-24, CCC - 25, CCC-28, CCC - 31 and CCC-32 DDD- 1 to DDD- 18 DDD- 20, DDD- 21, DDD- 23 to DDD-28 EEE - 1, EEE - 2, EEE - 4 to EEE - 7 EEE - 9 to EEE - 111, EEE - 13 to EEE - 20, EEE - 22 to EEE - 35 FFF-1 to FFF-20, FFF-22 to FFF- 35, FFF- 37 to FFF- 48, FFF- 50 to FFF- 55, GGG - 1 to GGG - 3, GGG - 5 to GGG - 20 , GGG - 22 to GGG-28, GGG - 30 to GGG-40 HHH - 1 to HHH - 16, HHH - 18 to HHH-25, HHH - 27, HHH - 28 and HHH - 29 III- 2 to III- 6, III-8 to III- 18 JJJ - 1 toJJJ - 27, JJJ - 29 and JJJ - 30 KKK- 2 to KKK-17, KKK- 19 to KKK-27(

Mercury Systems Corporation vs . CIR Page 9 of 33 CTA Case No . 8131 DEC I SION and KKK-29 LLL-1 to LLL-14, LLL-16 to LLL-26 AAA-27 Official Receipts and/or Invoices for the expenses classified as drinking water amounting to P4,913.22 BBB-6, BBB-17, BBB-28, BBB-38 and BBB-43 CCC-11, CCC-23 and CCC - 30 DDD-19 and DDD-22 EEE-3,EEE-8, EEE-12 and EEE-21 FFF- 21, FFF- 36 and FFF-49 GGG-4, GGG-21 and GGG-29 HHH-26 and HHH - 17 Ill-1 and III-7 JJJ - 19 and JJJ-28 KKK-1, KKK-18 and KKK-28 LLL-15, LLL- 20 Official Receipts and/or Invoices for the and LLL-24 expenses incurred during Christmas Party in the amount of P6 , 363.91 BBB-35 Official Receipts and/or Invoices for the expenses classified as Team Building in the amount of P8,322.56 AAA-28, Official Receipts and/or Invoices for the expenses AAA- 50, covering the Chest x-ray in the amount of P3,373.57 BBB- 11, BBB-12, BBB-21, BBB-27 CCC - 21, CCC-26 and CCC - 27{

Mercury Systems Corporation vs . CIR Page 10 of 33 CTA Case No. 8131 DECISION MMM Income Tax Return for 2006 AAA BBB Schedule of expenses for the month of January CCC 2006 ODD EEE Schedule of expenses for the month of February FFF 2006 GGG HHH Schedule of expenses for the month of March III 2006 JJJ Schedule of expenses for the month of April 2006 KKK Schedule of expenses for the month of May 2006 LLL NNN Schedule of expenses for the month of June 2006 000 000 - 1 Schedule of expenses for the month of July 2006 Schedule of expenses for the month of August 2006 Schedule of expenses for the month of September 2006 Schedule of expenses for the month of October 2006 Schedule of expenses for the month of November 2006 Schedule of expenses for the month of December 2006 Income Tax Return for 2007 Affidavit of Ms. Susanita Laxamana dated July 5, 2011 Signature of Ms. Susanita Laxamana Respondent, on her part, presented Hannah Thea M. Tulio and Albert G. Espejo as witnesses, as well as documentary evidence. On April 30, 2012, respondent filed her Formal Offer of Evidence, offering Exhibits "1" to "13-a ", inclusive of submarkings. This Court denied all of respondent's exhibits in a Resolution dated May 24, 2012.c

Mercury Systems Corporation vs . CIR Page 11 of 33 CTA Case No. 8131 DECISION On June 11, 2012, respondent filed a Motion for Reconsideration which this Court granted in a Resolution dated July 12, 2012 admitting the previously denied exhibits of respondent, consisting of Exhibits "1" to "13-a", inclusive of submarkings. Respondent's documentary evidence which were formally offered and admitted are as follows: Exhibits Description 1 Letter of Authority No. 2007-00025881 dated 2 June 17, 2008 and revalidated on November 12, 3 2008 4 5 Notice of Informal Conference dated May 21, 6 2009 6-a 6-b Memorandum Report dated June 15, 2009 of 6-c Revenue Officer Hannah Thea M. Tulio 6-d 7 RO Hannah Thea M. Tulia's signature 8 9 Preliminary Assessment Notice dated October 15, 10 2009 Formal Letter of Demand issued on November 16, 2009 Assessment Notice for Deficiency Income Tax Assessment Notice for Deficiency Value-Added Tax Assessment Notice for Deficiency Expanded Withholding Tax Assessment Notice for Compromise Penalty Tax Verification Notice No. 00123369 dated February 15, 2010 Petitioner Mercury Systems Corporation Financial Statements for 2005 and 2006 Petitioner Mercury Systems Corporation Alpha List of Employees as of December 31, 2006 Petitioner Mercury Systems Corporation Annual Income Tax Return c

Mercury Systems Corporation vs. CIR Page 12 of 33 CTA Case No . 8131 DECISION 11 Judicial Affidavit of RO Hannah Thea M. Tulia 11 - a dated 8 February 2012 12 12- a Signature of RO Hannah Thea M. Tulia 13 13 - a Undated Memorandum Report of RO Albert G. Espejo Signature of RO Albert G. Espejo Judicial Affidavit of RO Albert G . Espejo dated 12 April 2012 Signature of RO Albert G . Espejo On August 31, 2012, the instant case was deemed submitted for decision upon submission of petitioner's Memorandum 13 on August 10, 2012 and respondent's Memorandum 14 on August 28, 2012. The parties submitted the following issues for this Court's disposition: "1. Whether or not the questioned assessment complied with the provisions of Section 228 of the NIRC. 2. Whether or not petitioner is liable for deficiency income tax for taxable year 2006. 3. Whether or not petitioner is liable for deficiency Value Added Tax for taxable year 2006. 4. Whether or not petitioner has unrecorded sales, thus assessed pursuant to Section 31 in relation to Section 32 of the NIRC. 5. Whether or not petitioner failed to support with appropriate documentary evidence claimed creditable withholding tax, thu~ 13 Docket, pp. 578-590. 14 Docket, pp . 594 - 600.

Mercury Syst em s Co rp orati on v s. CI R Pag e 13 of 33 CTA Case No . 8131 DECISION disallowed pursuant to the provisions of Revenue Regulation 2-98. 6. Whether or not there are unrecorded sales subject to 12�/o pursuant to Sections 106 and 108 of the NIRC and Republic Act 9337 in relation to Revenue Regulation 2-98. 7. Whether or not there are income payments not subjected to expanded withholding tax pursuant to Revenue Regulation 2-98 ."15 Before addressing the other issues raised by the parties, this Court shall resolve first the issue pertaining to respondent's compliance with the due process requirement under Section 228 of the NIRC of 1997, as amended . Petitioner claims that it was denied due process when respondent did not give due course to the timely submission of its Reply to the Preliminary Assessment Notice (PAN). The allegation of denial of due process is supposedly bolstered by the fact that the disputed Formal Letter of Demand did not contain any direct or indirect reference to any argument or explanation petitioner mentioned in its written reply to the PAN, and the figures representing basic taxes, as well as the details of discrepancies in the PAN and the Formal Letter of Demand with Assessment Notices are exactly similar. Hence, petitioner asserts that it was essentially deprived of one stage or remedy in the assessment process where its explanations and documents could have been thoroughly reviewed and considered . On the other hand , respondent avers that the questioned assessments were issued in compliance with the provisions of Section 228 of the NIRC of 1997, as amended, and in accordance with existing revenue rules and regulations relative to the right of petitioner to be informed of the factual and legal bases upon which the assessments were made. Further, respondent states that the Formal( 15 Docket, pp . 88 -89.

Mercury Systems Corporation vs. CIR Page 14 of 33 CTA Case No . 8131 DECISION Letter of Demand and Assessment Notices dated November 16, 2009 contained not only a detailed computation of petitioner's tax deficiencies but also the details of the specified discrepancies, explaining the legal and factual bases of the assessment. Section 228 of the NIRC of 1997, as amended, provides that: "SEC. 228. Protesting of Assessment. - When the Commissioner or his duly authorized representative finds that proper taxes should be assessed, he shall first notify the taxpayer of his findings: Provided, however, That a pre- assessment notice shall not be required in the following cases: XXX XXX XXX The taxpayers shall be informed in writing of the law and the facts on which the assessment is made; otherwise, the assessment shall be void. Within a period to be prescribed by implementing rules and regulations, the taxpayer shall be required to respond to said notice. If the taxpayer fails to respond, the Commissioner or his duly authorized representative shall issue an assessment based on his findings. Such assessment may be protested administratively by filing a request for reconsideration or reinvestigation within thirty (30) days from receipt of the assessment in such form and manner as may be prescribed by implementing rules and regulations. Within sixty (60) days from filing of the protest, all relevant supporting documents shall have been submitted; otherwise, the assessment shall become fi na I. " To implement this prov1s1on, the SIR issued Revenue Regulations (RR) No . 12-99, Section 3 of which states: "Section 3. Due Process Requirement in the Issuance of a Deficiency Tax Assessment. - XXX XXX XXX(

Mercury Systems Corporation vs. CIR Page 15 of 33 CTA Case No. 8131 DECISION 3.1.2. Preliminary Assessment Notice (PAN). - If after review and evaluation by the Assessment Division or by the Commissioner or his duly authorized representative, as the case may be, it is determined that there exists sufficient basis to assess the taxpayer for any deficiency tax or taxes, the said Office shall issue to the taxpayer, at least by registered mail, a Preliminary Assessment Notice (PAN) for the proposed assessment, showing in detail, the facts and the law, rules and regulations, or jurisprudence on which the proposed assessment is based xxx XXX XXX XXX 3.1.4. Formal Letter of Demand and Assessment Notice. - The formal letter of demand and assessment notice shall be issued by the Commissioner or his duly authorized representative. The letter of demand calling for payment of the taxpayer's deficiency tax or taxes shall state the facts, the law, rules and regulations, or jurisprudence, on which the assessment is based, otherwise, the formal letter of demand and assessment notice shall be void xxx" The foregoing provisions of law and regulations clearly illustrate the process to be followed in assessment cases in order that the taxpayer will be afforded due process. Here, petitioner received the PAN dated October 15, 2009 on October 26, 2009. Petitioner then filed its Reply to the PAN on November 10, 2009. On November 20, 2009, petitioner received the FAN with Audit Result/Assessment Notices dated November 16, 2009 from respondent. Thereafter, petitioner filed its Protest to the Final Assessment Notice, which respondent failed to act upon. Applying the above-quoted provisions of law and rules to the instant case, this Court finds that respondent has substantially complied with the requirements of due process, considering that petitioner was able to refute not only the PAN but also it was able to exercise its option to file a Protest to the FAN issued by respondent although the samec

Mercury Systems Corporation vs . CIR Page 16 of 33 CTA Case No . 8131 DECISION was not acted upon by respondent within the period prescribed by law. Time and again, it has been held that the essence of due process is found in the reasonable opportunity to be heard and to submit any evidence one may have in support of one's defense. What the law proscribes is the lack of opportunity to be heard. As long as the party is given the opportunity to defend his interests in due course, he would have no reason to complain, for this is the opportunity to be heard that makes up the essence of due process. 16 Undoubtedly, petitioner was afforded due process. The Court will discuss now the other issues raised by the parties. As may be recalled, a Formal Letter of Demand 17 dated November 19, 2009 was issued by respondent against petitioner for deficiency income tax, VAT, and expanded withholding tax and compromise penalty, in the total amount of ~427,506.85, computed as follows: [- J - Income Tax BASIC i INTEREST j SUB - TO-TAl ~ t_ Value-added Ta ~ _ P 170,014.47 P9Q,7_;36 .49 I P 260,7 50.96 : Expanded 149,410.42 94L678.48 ~ _54~! -94 1 345.47 I Withholding Tax 849.65 495.82 Compr_9_1]li ~ e Penalty_~ - ____16 000 .00 p ~1_~,96'!-2~_L_P 427,506.85 L - TOTAL _l_P265,~42 . 60 The foregoing deficiency tax assessments will each be addressed in detail and in seriatim. A. Deficiency Income Tax- P260,750.96 As alleged by respondent, petitioner's income tax deficiency amounting to P260, 750.96 resulted from ( 1) disallowed income payments due to non-withholding; (2)~ 16 Estares, et . a/. vs. Court of Appeals, et. at., G.R. No . 144755, June 8, 2005. 17 Exhibit " D".

Mercury Systems Corporation vs. CIR Page 17 of 33 CTA Case No. 8131 DECISION unrecorded sales ; and (3) disallowed unsupported income tax credits, computed as follow s: - --~~- - 1 - �- - - Taxable income (l ossj_ per ITR - - 1--- - - - !'> 741 491.28 Add : Adjustment~~! _l_nvesti9 <:! tion 1 - - - - - - 1--� Income payments not subjected to 1-------� with holding_J9_2<_ _ - --*I ----------!'> 213 259.16 Unrecorded sales --- - -- 247 394.00 460 653.16 1 202 144.44 Taxab le income 12er investiga ti:_ --- ------- 1--� Income tax due thereon -------]- - !'> 420 750.55 Less: A l lowan~-~~~ redits/p-'~Yi.!l e nJ~ -� _ _ _ - - -- 1 - - - -C-r- ed�i-tab-le- with- ho-ld-in-g tax claim~ per ITI3 ' - p 15 632.57 -- ---- - ~ riQ_r y ear's excess eredit -- r--- -�- -- 619 042 .86 �-----� �-���- --- Total -- ---- p 634 675.43 --� Less : Excess tax credits carri ed over !'> 375,153.48 UnsUQj2Grted creditab le _vyithho lding ta_)(_ __ _ 8, 785.87 - ~ 3,939.35 250 736.08 - --- Deficien ~y_ IncQm ~_]".<:JX ____ - l- - -- -- - - ----- !'> 170,014.4?_ Add: 20% interest per annu m (4.17.07 to . ~ j_2;;:;;~~~:9=j ~ 12.:.0 .: Q9J_ ---- LTotal Amount_Due_ _ __ ~-- - 1. Disallowed Income Payments- P213,259.16 Based on the comparison between the total income payments reflected in the Audited Financial Statements (AFS ) and shown in the Returns/AI ph aIist, respondent found a discrepancy in the amount of P213,259 . 16 ; which allegedly was not subjected to withholding tax . Hence, respondent disallowed th e same, pursuant to Section 34(K) of the NIRC of 1997, as amended . The disallowed 1ncome payments are as follows : -- -~-- Pe r Re-t urns- - r - - - - - - 1 Income Pay_r"!lent~-- ____ Pe_!. FS _ _ I A_!phalist Difference J Ac;!yerti~ _e~en ~ _ !'> 21,209.78 - -- ---j--- !'> 21,209.78 rR-e[J-a-ir-s -a-nd- m- -ai-nten-a-nc-e �--- -- - - -=- - - 21,27]~4?._1 I ~.<:JI.<:Jries ~nd wages r .:.c _!>3,31:,_Q~il5_2!,28_Q9_0_8..�4.1!_t L Tota !_ __ ___ _ -- _?,~L2L0) 1_3.2_ 21 272.42 2,912 J)_~4 ~ t-- _11_0 776.96 ~ P213,259 . 16

Mercury Systems Corporation vs . CIR Page 18 of 33 CTA Case No. 8131 DECISION (a) Advertising Expense- P21,209.78 According to petitioner, the advertising expense account pertains to expenses for food and beverages on two occasions when petitioner's technical managers and staff conducted a software product demonstration to its potential clients. In the course of such product demonstration, petitioner spent F>10,685.71 and F>10,524.11 (net of VAT) on May 31, 2006 18 and November 29, 2006 19 , respectively. Petitioner maintains that the said income payments were not made to contractors or subcontractors enumerated in RR No. 2-98. This Court agrees with petitioner. The items included in petitioner's advertising expense account are valid expenses incurred in the course of its business, which are not among those enumerated under RR No. 2-98 as subject to expanded withholding tax. Thus, the disallowance of advertising expense is erroneous. (b) Repairs and Maintenance - P21,272.42 Petitioner explains that the amount of repairs and maintenance pertains to the following expenses: Paid to one -(1) - individua-l wh o rend-ered--, cleaning service for 1 hour twice or thrice a week over a period of 5 months. Such Janitoria: services individual was a marginal income earner and Repair of office - _f_] 2 15 .00 not a contractor engaged in business. _ _ ~ equipment/ 2,357.49 facilities Repair of microwave oven and grease 1 Repair of vehicles trap/plumbing fixture. Performed by a marginal 1 used for official business income earner and not a contractor engaged in Total business. Various expenses incurred for reconditioning of 14L99_9.93 the vehicle ~ n_d the purchase of spare parts . _~ 2!L~72.4~ 1 (" 18 Exhibit " XX " . 19 Exhibit "YY" .

Mercury Systems Corporation vs. CIR Page 19 of 33 CTA Case No. 8131 DECISION The above-enumerated figures are broken down as follow s: Janitorial Services l For the Period _---~ 1 -Amoun !.__ Paye~ _ Exhibit MM I Albert San BueQ_9ventura Jun e 14- 30, 20_9 �_ (1_1 da'[S at P6_?.QQ2~ P 715.00 MM Albert San Buenaventura Ju ly 1- 31, 2006 (12 d~s at P65.Q_QJ- - 780 .00 --- -~r- ---~ ---- pp A_!_bert San Bl,!enay entura 1 Augu st 1- 31, 2006 (8jays at P65.00_l_- - t - - ~UU_ _ Albert San Buenaventu ra Sept. to Oct. 209~ {1Q d ~y_? at 6 ~QQ)__ 650.0 ~ November 1- 30, 2006 (10 days at I 65 .00) vy_ j~bert San Bu enaventura L Total P3 315.00 Repair of Office Equipment/Facilities -H - Date r Exhibi t I Suppl~r -ii Amount I ~ q;: -1 ~~ Su re - Shot Serv t_s=e Corporatton -~ .0' 24/2006 __ _ P_ 1, 517.85 1 - - EE- Rolando Acosta 3/15/2006 __j_~ 1,000.00 . LL ~-- --+--- - 7/~8/200�_~ 270.00 ~ Sucat Business Service Branch --t--- j 9/8/2006 - 169.64 ~ - j_ AH Hardware ~ 000 Total p 2 957.49 ----~ Rep_ai!_ _of Vehic/~s used for Official Business .- l xhibit Supplier f 1 Date 1 _l! 1fl00_~ Amount _ QD Delta MQ_tor Sal ~~ orporatton ~ f__],044.64 ~ Honda Cars Makati, Inc. 4/5/2006 ' hl71.43 __ FF ~ GG_l R omy's Ca ; Acc~ssorie~ & Gen. Merchandt~e - 5/4/20Q�__~_=-= 4-~2.14 P~nts 1 -__- HH +- Romy's Car Accessories & Gen . Merchandise 1 ~ 39 . 29 II Arayat fvl_otor 5/7/2006 ' ~ 535 .71 5/25/2006 l~ JJ Romy's Ca_!:: Ac ~e ~s_g r i e s & Gen . Merchar1_dise ~ 6/5/2006 .~ - 892.86 KK Nissan Parts Center 6/8/2006 J_ 357.14 1 f- Intergroup Inc. _ ~ 8/~i2006 1 1 607 . 1~~ NN 00 + To_y__g ram~a Motor Co r p. ~8a oo6 ~ 133.9~-l _i2Q_ ~ oi~ i ne A.!:!._t:Q__parts Corp ._ . 9/7 /2006 928 .57-1 _ _F.R ~ J:Jnited B~aring_l!l dustrial Corp. I 2 325 .oo 9/7;2oo6 . _ D _L Carline Parts ~ellt e r 9/8/2006--r~- ~6.43 1 L p 14,964.28 I Total Petitioner asserts that it did not withhold taxes on costs of janitorial services because the same were directly pa id to an individual (Albert San Buenaventura) employed by petitioner and not to an ag ency, in the same way that it did not withhold taxes on costs of repairs of office equipment/facilities and vehicles because the said cost s were indispensable minor and regular expenses fo r maintenance and were not paid to a contractor that warrants the withholding of taxes.,

Mercury Systems Corporation vs. CIR Page 20 of 33 CTA Case No. 8131 DECISION A scrutiny of records shows that the amounts declared under Repairs and Maintenance account are indeed income payments made to persons who are not among those enumerated under RR No . 2-98. Such being the case, the income payments made by petitioner to them are not subject to expanded withholding tax. Hence, the assessment should be cancelled. (c) Salaries and Wages- P170,776.96 According to petitioner, the amount of salaries and wages refers to the following expenses: lt'-'1~eals --~ _ I _f_ 1-&228 ..2~ ~ nack~_ _ 1 ___ __1?,101:~ I ~Dhrrinisktirn1g2asWPaatretry~_jI _ I _ _ _- 46 ,L836739.. 49 7~1l I l Team Building ! 13,102.73 r-[Ches~ x-r ay_ - _ (_--_- 3 , 401._'!1- Total I 170,776.96 - � - - fJ - - � - __ _ _ _ j _ _ _ _ _ _ _ _ _ Petitioner considered these expenses as "de minimis" benefits or those for the promotion of general welfare of the employees, which are not subject to income tax and withholding tax on compensation income for rank and file employees pursuant to Revenue Regulations No. 10-2000. Section 1 of Revenue Regulations No. 10-2000 reads as follows: "SECTION 1. Section 2.78.1(A)(3), (6)(b)(ii) and (7) of Revenue Regulations No. 2-98, as last amended by Revenue Regulations No. 8-2000, is hereby further amended to read as follows: XXX XXX XXX The following shall be considered as ' de minimis ' benefits not subject to income tax as well as withholding tax on compensation income of both managerial and rank and file employees: d

Mercury Systems Corporation vs . CIR Page 21 of 33 CTA Case No . 8131 DECISION a. Monetized unused vacation leave credits of private employees not exceeding ten ( 10) days during the year and the monetized value of leave credits paid to government officials and employees; b. Medical cash allowance to dependents of employees not exceeding P750.00 per employee per semester of P125 per month; c. Rice subsidy of P1,000.00 or one (1) sack of 50 -kg. rice per month amounting to not more than P1,000.00; d. Uniform and clothing allowance not exceeding P3,000 per annum ; e. Actual yearly medical benefits not exceeding P10,000 per annum; f . Laundry allowance of P300 per month; g. Employees achievement awards, e.g., for length of service or safety achievement, which must be in the form of a tangible personal property other than cash or gift certificate, with an annual monetary value not exceeding P10,000 received by the employee under an established written plan which does not discriminate in favor of highly paid employees; h. Gifts given during Christmas and major anniversary celebrations not exceeding PS,OOO per employee per annum; i. Flowers, fruits, books, or similar items given to employees under special circumstances, e.g., on account of illness, marriage, birth of baby, etc.; and j. Daily meal allowance for overtime work not exceeding twenty five percent 25�/o of the basic minimum wage." As may be gleaned from the above prov1s1on, RR No. 10-2000 provides for the acceptable ceiling for each "de minimis" benefits (e.g., rice subsidy should not exceed Pl,OOO.OO per month). Applying the same to the instant case, this Court finds the expenses incurred for meals, snacks, and drinking water that were treated by petitioner('

Mercury System s Corporation vs. CIR Pag e 22 of 33 CTA Case No . 81 31 DECISION as "daily meal allowance for overtime work not exceeding twenty-five percent (25�/o) of the basic minimum wage" in accordance with Section 1(j). Allegedly, petitioner had nine (9) employees from January to June 2006, and eight (8) employees from July to December 2006. The basic minimum wage in 2006 per employee was P350.00 per day and petitioner had 299 workdays (365 days in year, less 52 Sundays and 14 non- working holidays) in 2006. Petitioner's computation of total allowable daily meal allowance is as follows: - - ----, 8 emplo__yees x P350~0 ad ~ P 2,800.00 I Multiplied by_? 99 '1-{_0rkdays __ 837,200.00 I Multiplied by 25�/o {Allowable daily meal allowance for 8 I ~mployees for 2006) p 209,300.00 1 Based on the foregoing, it is apparent that petitioner's purported actual expenses for meals, snacks, and drinking water totaling P147, 908.92 is less than its allowable daily meal allowance for 8 employees for 2006 amounting to P209,300.00. However, this Court cannot ascertain whether the actual expenses for meals, snacks, and drinking water were actually incurred for 299 workdays by all of its 8 employees . It must be emphasized that it is important to determine if the benefits received by each employee did not exceed the limit or threshold amount for the said benefit since as provided under RR No. 10-2000, each de minimis benefit has a maximum amount for each employee per annum in order for such benefit to be not subjected to income tax and withholding tax on compensation income of both managerial and rank and file employees. Hence, the disallowance of the income payments of P147,908 .92 due to non - withholding is proper (I f

Mercury Systems Corporation vs. CIR Page 23 of 33 CTA Case No . 8131 DEClSION With respect to the expenses incurred for team building activity and Christmas party, petitioner treated the same as "gifts given during Christmas and major anniversary celebrations not exceeding PS,OOO.OO per employee per annum" in accordance with Section 1(h) of RR No. 10-2000. However, a perusal of the records shows that, out of the total P19,466.64 claimed as de minimis, only the amount of P8,322.56 is duly supported by evidence 20 and determined to be actually pertaining to expenses incurred during its team building. Anent the expenses incurred for chest x-rays, petitioner treated the same as "actual yearly medical benefits not exceeding P10,000 per annum" in accordance with Section 1( e). Based on the records, petitioner's actual expenses for chest x - rays amounted to P3,401.41; which is duly supported by receipts21 in the name of petitioner. Since it is less than the allowable amount of P10,000, the same shall be exempt from tax. In view of the foregoing, this Court finds that out of the alleged income payments not subjected to withholding taxes amounting to P213,259.16, only the amount of P159,053.00 should be disallowed, to wit: ~ M-e~s~~- ~-- -~T f>- t26,92~ ~29J L S!}acks _ _ , _ 1_6 L1Q_L].� 1 1 [)rin~ing Wa ter -~ _ 4,8Z9.47 _ T LChristmas ~~rt'{_ 1 ~63. 91 , Team Building 4, 780.17 I OT~_L ~= __l_ P__159,053.00 2. Unrecorded Sales- P247,394.cts{ 20 Exhibit "BBB-35". 21 Exhibits "AAA-28", "AAA-50"I "BBB-11 " I "BBB-12"I "BBB-21"f "BBB-27"I "CCC- 21 ", "CCC-26" and "CCC-27" .

Mercury Systems Corporation vs. CIR Page 24 of 33 CTA Case No. 8131 DECISION Respondent posits that as per verification, petitioner's service income reported per ITR is understated by f>247,394.00. As a consequence, she assessed petitioner pursuant to Sections 31 and 32 of the NIRC of 1997, as amended. The understatement is comprised of the following :22 NAME OF CLIENT PERIOD COVERED AMOUNT p 131 250.00 Mansfield International _Oct. - Dec. 2006 billed Jan. 18J 2007 22_ Grocers C en�tr- al -A l-lia nce - -- _ EC Link Network ~rvice) _ Oct. - Dec. _? 006 billeg_l an_:_ ~_ 2007 98,504.00 1 Oct .-Dec. 2006 bi_ll ed Jan. _18 L 2007 2~~- 17,640.00 EC Order Software _(l'1~intenance) LTO_TA~ _ ___ I P 247,394.oo Petitioner counter-argues that for the period covering October to December 2006, it did not actually render any services to Mansfield International. Petitioner ceased rendering services to the latter at the end of August 2006 as the latter did not renew subscription with petitioner. There being no services rendered for the said period, no billing was ever recorded from Mansfield. However, a careful scrutiny of the records proves that there was a billing 25 made by petitioner for Mansfield for which petitioner insists that it pertains to a Reinstatement Fee equivalent to renewing a full year subscription of Mansfield to petitioner's annual software maintenance program, accruing to the year 2007 and not to be accrued to the last quarter of the year 2006. On the contrary, the same Billing Invoice No. 269 dated June 18, 2007 referred to by petitioner as Reinstatement Fee shows that it was an actual billing for software maintenance fee for the period August 12, 2006 to August 11, 2007 amounting to f>588,000.00 (inclusive of VAT). Further, petitioner received payment for the whole amount on September 7, 2007, as(' 22 Exhibit "2", Annex B. 23 Exhibit " X" . 24 Exhibit "V". 25 Exhibit "X" .

Mercury Sy ste m s Corporati o n v s. CIR Page 25 of 33 CTA Cas e No . 81 3 1 DECISION evidenced by Official Receipt No. 0305. 26 Evidently, petitioner's allegation is negated by what is stated on the face of the documentary evidence presented before this Court. Thus, the findings of respondent should be sustained. With respect to its services to Grocers Central Alliance, petitioner alleges that the service income was recorded in the following year when the collections were made on September 14, 2007. 27 Petitioner states further that the amount actually billed to client for Mercury EC Link network service fee was f>100,184.00 28 and not f>98,504.00. Nevertheless, it admitted that it inadvertently failed to accrue the service income in 2006. However, petitioner also claims that the corresponding taxes were already paid and remitted in the year of collection in 2007. This Court finds petitioner's allegation to be without merit. As found by this Court, the manner of recording of the said sales transaction by the taxpayer is upon billing to its customers. For tax purposes, however, recording of income should be on accrual basis. Thus, services rendered for the year 2006 should be recorded as revenue for the year even if billed and paid for in the subsequent year. Likewise, petitioner fell short in proving that the subject income was reported and the corresponding income tax was paid in the subsequent year. Thus, the findings of respondent shall remain. 3. D isallowe d Unsupported I n come Tax Cre d its - P 8,78 5. 8 7 The discrepancy found by respondent's examiners was based on the comparison of the income tax credits supported by Certificate of Creditable Tax Withheld A~( 26 Exhibit " Y" . 27 Exhi bit "Z" . 28 Ex h ibit " W".

Mercury Systems Corporation vs. CIR Page 26 of 33 CTA Case No . 8131 DECISION Source (BIR Form No. 2307) against the amount reflected in the Annual Income Tax Return for the taxable year 2006, as follows: 2066 [ creditable T~x Withh el9 f Q_C_ the tea-r __ [_ ! rs,6r r57- ~ Less: Amount su_R_p_g,-ted__i2.Y certificat~~ ~ 6,846.70 L Diffe__r:::.~nce _ _ _ _ _ _ _ _ _ _ _ ~ _ P 8,785.87 The alleged total amount supported by certificates is as follows: ~ax--T--wit~ahxeld T--~ usy 1 -- Withheld !1 (in f-------------'P---a=YQr ___ . _ For the Period (in Peso)_ 1 Dollar) Reference , BIR Records, Grocers Central Alliance, 04-01 -06 to 04- 1 Inc. 30-06 p 73.66 - - ~- p . 119 -~ Grocers central Alliance, - i- o6 - 01 - o6to 06-- - ~ ~~~~;s,j 73.66 BIR Records, Inc. 30-06 2,625 QC4 p. 118 l. O.tJ_cEcnsidfieenitQa__i!_nDtaetranaC_.!Qrl:opno~rL~tiino~Q_~ - 07-01 -06 to 09- BIR Records 09 - 0_�~3-0g--0~6~o~ - $ 35 00 p 117 - ._ 10-01-06 to 10- ~~ 1 1 BIR Records, I BIR l:-:ident~I-Dat: C~p~:~;; -. - ~~!!a :~:::.:J=~--}!~: :R~~~-dsl I Grocers Central Alliance, 01 -6 o3- .. - : A perusal of the records reveals that respondent inadvertently added the peso and dollar amounts of withholding taxes to come up with the amount of P6,846. 70 that was used in comparison with the creditable tax withheld reflected in the ITR. Nonetheless, the disputed unsupported amount of P8, 785.87 being claimed by petitioner as amounting to P8, 780.00 was explained by petitioner as referring to the difference between the withholding taxes credited in its 2005 ITR (P185,138.34) as against the taxes actually withheld (P193,918.34) from petitioner in the same previous year 2005 . The difference of P8, 780.00 was then reflected and claimed as creditable withholding tax for the next year 2006. The difference was supposedly withheld by Mansfield International as follows:

Mercury Systems Corporation vs. CIR Page 27 of 33 CTA Case No . 8131 DECISION PERIOD - ~:;~~~- l_f!!\-l~_1-AMOUNT~l June 2005 ~ 191,727. ~'Z_~____1_0/_(?_ ~ 3,834.55 24~27_~- D [ 2% _ _ 4,945.45 p 8,780.00 However, since the claimed tax credit of F>8, 780.00 pertains to year 2005 and for which the related income payments should have been reported in the same year 2005, this Court is constrained to disallow the amount of F>8, 780.00 as tax credit for the year 2006. In view of the foregoing, petitioner is liable to pay basic deficiency income tax for the taxable year 2006 in the amount of F>151,042.32, computed as follows: ____ _ _P151,042.32 B. Deficiency Value-Added Tax- P149,410.92 Respondent asserts that the assessment for deficiency VAT amounting to F>149,410.92 arose from: (1) an alleged F>247,394 .00 worth of unrecorded sales; and (2) the use of 10�/o VAT rate in the computation of VAT liability from February to December 2006, computed as follows: (

Mercury Systems Corporation vs. CIR Page 28 of 33 CTA Case No. 8131 DECISION Taxabl~ Sales/Receipts per VAT return I ~4 168 310 .06 AQ9: Adjustment per investigation I I -- - - Unrecorded sales 2471394.00 Total taxable sales/r~celpj:s _p~r_ inv_estigaj:ion P4 415 704.06 Out ut tax gue there<;>_~ffi 0/0 p 529,884.49 Less: Allowable tax credits/payments I ~13,178 .~ l �- Excess input tax carried over from previous I - f - ---' ear 435 206.01 Payments I 282,.�51._.45 -� !�112ut tax - __.1 39_1 3_69 .92 Total p 94 678.48 LAdd: 20% intere_?~ per~num (4.17 .07 to 12.15.02..)_ 54 731.94 T-ot- al- Am-o- unt Due -- p 149,410.42 -~.- 1. Unrecorded Sales- P247,394.00 As discussed earlier, part of the income tax assessment rests on the finding that there are unrecorded sales in the amount of f>247,394.00. Respondent's theory is that since there was an undeclared income, the same should translate to taxable income for income tax purposes, and taxable gross receipts for VAT purposes. This Court disagrees with respondent. It must be remembered that the 12�/o VAT is assessed on the "gross receipts derived from the sale of services" by petitioner to Mansfield International and Grocers Central Alliance . However, even if petitioner is held liable for deficiency income tax on the instant sales transactions, this Court finds it inappropriate to hold petitioner liable for deficiency VAT for the same sale transactions. The law defines "gross receipts" as "the total amount of money or its equivalent representing the contract price, compensation, service fee, rental or royalty, including the amount charged for materials supplied with the services and deposits and advanced payments actually or constructively received during the taxable quarter forL

Mercu ry System s Corporation vs. CIR Page 29 of 33 CTA Case No . 81 31 DECISION the services performed or to be performed for another person, excluding value-added tax. "29 In the imposition or assessment of VAT, what is critical to be shown is that the taxpayer received an amount of money or its equivalent. Petitioner is a provider of services. Its service income is subject to output VAT which is due at the time of collection and not at the time the revenue was earned. Thus, it was erroneous on the part of respondent to impose a deficiency VAT on the unrecorded sales of P247,394.00, which were collected in 2007 as reflected in the official receipts. Such being the case, the imposition of 12�/o VAT on said unrecorded sales is not valid. 2. The use of 1 0�/o VAT rate in the computation of VAT liability from February to December 2006. Respondent's verification disclosed that petitioner was still using 10�/o value - added tax rate in the computation of VAT liability from February to December 2006. Since the effective VAT rate for that particular period has been set at 12�/o pursuant to Republic Act No. 9337 in relation to Revenue Memorandum Circular (RMC) No. 8 - 2006, petitioner was assessed for the discrepancy based on the afore-mentioned tax provision . Petitioner argues that since it is a service provider, its service income is subject to output VAT which is due at the time of collection and not at the time of billing. Petitioner further avers that it applied the 10�/o VAT rate in billings for January 2006, and applied the 12�/o VAT rate on billings for February to December 2006, and that it remitted the output taxes according to the dates when the service incomes were collected . Petitioner's Quarterly VAT Returns disclose the following :t. 29 Section 10 8 of t he NI RC of 1997, as amended.

Mercu ry Syst em s Co rpo r atio n v s . CI R Pag e 30 of 33 CTA Case No . 8131 DECISION ~ ----bl!_ I - Period VATable - I Output VAT Tax ~ ~ 1st Quarter Paid Rate Sa!es/Re_!:ei!!_~ _ f1 S-= + 2nd- Q-uarter f> _�_(2_!_, 906.4 8 p 80 190.65 10.00% -- lt1._8 8 ,!_8 1. 82~ -1-2 6 693 .18 10.66% 172, 59 2. 18 10. 10% T ( 3 rd_Qu arter 1J08,42L 76 U l 4t h Qu arter 469 ,800 .00 55J3 0 . 0 Q__c 6~ [ _rotal - _? 4,!~8,310.06 1 P 4 35,206.01 - 1 The allegation of petitioner that it applied the 10�/o VAT rate on billings for January 2006 and 12�/o on billings for February to December 2006 does not match with the above presentation . Evidently, no output tax for any quarter in the year 2006 was subjected to 12�/o rate. In the absence of any supporting source document, this Court cannot ascertain the veracity of petitioner's claim. In addition, the tax treatment for services rendered before or after the effectivity of RA No. 9337 is governed by RMC No. 08 - 2006, in relation to the transitory and other provisions of Revenue Regulations No. 16-2005. Failure to comply with the set conditions shall automatically subject the gross receipts received on or before February 1, 2006 to the 12�/o VAT . Hence, respondent's computation of the 12�/o VAT due is affirmed. In sum, petitioner is liable to pay basic deficiency value -added tax for the taxable year 2006 in the amount of f>64, 991.20, computed as follows: Taxa bl e Sa l es/ Rec~~er VAT retLJ_rQ p 4 168 310.06 Out ut tax d ue t h e re o_Q__(12�~ 500 197 .21 Less : All owa bl e tax_~_r:~dit~~ ym e n t~ _ Exc~ s~ input~~ carried over from prev ious yea~ Paym~n_!:s _ ln_put !_ax L oeficiency_Value-add~d T~x

Mercury Systems Corporation vs. CIR Page 31 of 33 CTA Case No. 8131 DECISION C. Deficiency Expanded Withholding Tax- P1,345.47 Per investigation of respondent's examiner, the following income payments were allegedly not subjected to expanded withholding taxes, prompting respondent to issue the deficiency EWT assessment in the amount of F>1,345.46, computed as follows : Ad~ertisi~ ~ =~-~ -__ ~~~7~- 3 : ___B_epai[ S ~nsJ maintenance_____ - -- 1- TAX DUE p 424.20 _ -~1,272.42_ ----+ ________ ____ Ex~nded__~thb_oldi_~ tax 425.45 _ 2% - _ -� p 849.65 , Add: 20% interest per annum (4.17 .07 to , 1___ __ 1 12 . 15.09) -1 - - 1--- 495 .82 _ _ ,___ ! � 1 , 3 4 5 . 4 7 Total Amoun_!_ Due __ ___ _ As earlier discussed, petitioner is not liable for the deficiency EWT since such income payments are not subject to expanded withholding tax as those were income payments not included among those enumerated under RR No. 2-98. Therefore, respondent's deficiency EWT assessment for the year 2006 should be cancelled. D. Compromise Penalty- P16,000.00 As to the compromise penalty charged by respondent against petitioner in the amount of P16,000.00, for the latter's alleged non-filing of Alphalist of Employees, the same shall be cancelled there being no compromise agreement between the parties. WHEREFORE, the Petition for Review is hereby PARTIALLY GRANTED. The assessment issued by respondent against petitioner for the taxable year 2006 covering deficiency EWT in the amount of F>1,345 .46 is hereby CANCELLED and WITHDRAWN for lack of merit. However, the assessments for deficiency income tax and VAT for the taxable year 2006 are hereby AFFIRMED with MODIFICATIONS . Accordingly, petitioner is hereby ORDERED TO PAY the amount of F>270,041.90 for the<

Mercu ry Syst e m s Corporatio n vs. CI R Page 3 2 of 33 CTA Case No. 8 131 DECISION following deficiency taxes, inclusive of the twenty-five percent (25�/o) surcharge imposed under Section 248(A)(3) of the NIRC of 1997, as amended: I -- 25�/o 1 Basic , Surcharge 1 Total I I Deficiency_In com e t ax 1 P 1 51, 0 42 .32 1 p 37 , 7 60.58_, p 188 80 2 .9 0 Defjciency VAT 64 ,99 1.20 1 1 6 ,24 7 .8 0_t_ - - 8-1123 9.00 __I, LTOTAL p 216,033.52 . p 54,008.38 p 270,041.90 _j In addition, petitioner is ORDERED TO PAY: (a) deficiency interest at the rate of twenty percent (20�/o) per annum on the total basic deficiency income tax and VAT in the amounts of P151,042.32 and P64,991.20 computed from April 15, 2007 and January 25, 2007, respectively, until full payment thereof pursuant to Section 249(8) of the NIRC of 1997; and (b) delinquency interest at the rate of 20�/o per annum on the tota I deficiency taxes of P2 70,041.90 and on the 20�/o deficiency interest which have accrued as afore - mentioned in (a), computed from December 15, 2009 until full payment thereof pursuant to Section 249(C) of the NIRC of 1997, as amended. The compromise penalty charged by respondent against petitioner in the amount of P16,000.00 is excluded there being no compromise agreement between the parties. SO ORDERED. ~ N. M~~(;~ WE CONCUR: CIELITO N. MINDARO-GRULLA Associate Justice ~c-~<Z ~- JtiANITO c. CASTANE6A, JR. CAESAR A. CASANOVA Associate Justice Associate Justice

Mercury Syst em s Co rp or ati on vs. CI R Page 33 of 33 CTA Case No . 8131 DECISION ATTESTATION I attest that the conclusions in the above Decision were reached in consultation before the case was assigned to the writer of the opinion of the Court's Division. ~~c.~.--~ _ \)_ JCfANITO C. CAS-fANEo4( JR. Associate Justice Chairperson CERTIFICATION Pursuant to Article VIII, Section 13 of the Constitution, and the Division Chairperson's Attestation, it is hereby certified that the conclusions in the above Decision were reached in consultation before the case was assigned to the writer of the opinion of the Court's Division. Presiding Justice